The IRS recently issued the guidelines we have been waiting for since the U.S. Supreme Court invalidated the Defense of Marriage Act. The tax rules affect all married same-sex couples – while their relationship is intact, but also when things go asunder. For those in intact marriages, some of the couples will enjoy benefits, whereas others will face higher taxes, due to the “marriage penalty.”
But as those who have been through a divorce recently have learned, one of the ironic burdens of DOMA was the lack of the tax protections that straight couples have always received upon divorce. The “benefits” came in the form of being able to transfer assets and pay (and receive!) alimony without having to pay tax on those transfers. The burden of double taxation was especially unfair, since these spouses had already paid their full share of taxes when the money was earned. Now, thanks to the demise of DOMA, same-sex divorcing couples will enjoy the same freedom to transfer assets that straight divorcees have always had. Splitting up a bank account, transfering ownership of a house, or paying spousal support (aka alimony or maintenance) can all be done in whatever arrangement the couple agrees to, without worrying about having to pay additional taxes on these payments.
Once DOMA was invalidated we knew that same-sex married spouses in recognition states would be exempt from taxation on these transfers. However, there were two classes of couples whose fate was uncertain: those living in non-recognition states, and those who have marriage equivalent registrations, such as domestic partnerships (in CA) or civil union (in New Jersey). The IRS said yes to the coverage for those in non-recognition states, but said no when it comes to those in marriage-equivalent registrations.
Here’s what this means. If you are living in a non-recognition state (i.e. a state that doesn’t honor your marriage) and you are breaking up, and you are dividing up assets or helping each other out financially, you won’t owe any federal taxes. Thus, even if your state doesn’t recognize your marriage, and even if you have to travel to another state to get divorced, at least the federal tax authorities won’t burden you with additional taxes.
But for marriage-equivalent registrants, there are still tax problems. Under state law you may have to pay alimony or give some of your investment account to your ex – because those are some of the duties of being in a marriage-equivalent partnership. But because the feds don’t recognize you as “spouses” you don’t the spousal tax privileges. You will be faced with the same tax burdens – and tax uncertainties – that those in same-sex partnerships have faced for the past eight years.
We think this is unfair. If the state considers you married, then the feds should fully recognize that status – even if it is called domestic partnership or civil union in your state. Eventually, this problem will go away – in part because many of the states that now offer marriage are “upgrading” the registered partners into marriage. Also, if your relationship is still intact, and you are worried about future tax problems, you can get married now – and then if you later divorce you will have all the tax protections as a divorcing spouse. And finally, there are legal advocates working to persuade the IRS to loosen up these rules, and include divorcing domestic partners or civil union registrants into the scope of the tax exemption.
This is definitely complicated – and if you are going through a break-up and significant assets are involved, we urge you to consult with a tax expert who knows the rules for your particular state.